You hear the market expects six Fed rate cuts this year — here’s where that data comes from

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You hear the market expects six Fed rate cuts this year — here’s where that data comes from

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January 31, 2024

You hear the market expects six Fed rate cuts this year — here’s where that data comes from

Here’s our Club Mailbag email investingclubmailbag@cnbc.com — so you send your questions directly to Jim Cramer and his team of analysts. We can’t offer personal investing advice. We will only consider more general questions about the investment process or stocks in the portfolio or related industries. This week’s question: CNBC guests often say six Fed cuts are priced into the 2024 market. How do they know? Is it just their opinion? Do they have some calculation or is this just a pitch to support some bearish investment strategy? – Mike H. When you hear about the number of Federal Reserve interest rate cuts being priced into the market, the data comes from the CME FedWatch tool . This tool, which leverages data from fed funds futures contract prices, can be used to determine the likelihood of a cut (or hike) in the near-term, like the next meeting, or where rates might be headed over the next year. The overnight fed funds bank lending rate is the rate that everyone is referring to when talking about Fed rate moves. The current range is 5.25% to 5.5% following 11 rate hikes from March 2022 to July 2023. There was a pause at the June, November and December meetings. In terms of cuts being “priced in” for the full year, this is determined by where the market predicts the Fed target rate will be by year-end in December. Looking at a snapshot at the CME FedWatch tool, as of this writing and ahead of Wednesday afternoon’s Fed rate decision and central bank chief Jerome Powell news conference, it shows the probability of various targets by December 2024. As we can see, the highest probability, roughly 40%, is being attributed to the 375 to 400 basis point cut range by year end. Each cut amounts to a 25-basis point, or 0.25 percentage point, reduction to the range. One hundred basis points equals 1 percentage point. So, with if the current fed funds range is 5.25% to 5.5%, as we can see right above the chart, then the implication is that the Fed will cut by 150 basis points, or 1.5 percentage points in 2024. That’s where the six 25-basis-point cuts come from. If you follow the link above, you will be able to pick any month, during which the Fed has a meeting, and do this same analysis to determine how many cuts the market thinks we will see by the conclusion of the meeting in that given month. Heading into the January meeting, we can see the market is placing a nearly 94% probability on the Fed holding rates at the current range following the January meeting. That’s a tick down from the roughly 98% we saw Tuesday. Perhaps, it’s because of the weaker-than-expected ADP private-sector employment report out Wednesday morning. In addition to leveraging this data to understand what the market is factoring in, you should compare it to your own outlook. You may have heard us say things like, the market is trading on Fed rate cuts. What we mean is that the valuation models being used to find appropriate price levels are factoring in six cuts. If you think that’s too much, then you would want to be more cautious as it would mean that the market is getting ahead of itself by pricing in a lower rate environment more quickly than it will be realized, according to your own world view. The opposite may also be true. However, keep in mind, while the general view is that lower rates are better for stock, given the impact on multiples and discount rates in discounted cash flow models, the more important question is why rates are where they are. Are they low because inflation has come down and the economy is still chugging along (bullish) or are they low because the economy is tanking (more, sub-optimal as Jim Cramer would say)? (See here for a full list of the stocks INJim Cramer’s Charitable Trust.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

This week’s question: CNBC guests often say six Fed cuts are priced into the 2024 market. How do they know? Is it just their opinion? Do they have some calculation or is this just a pitch to support some bearish investment strategy? – Mike H.